Why an 'enfeebled' Conservative government could be an unexpected positive for the UK economy

Good news for these two.
Reuters/Neil Hall
LONDON — The weak, unstable Conservative minority government backed by the DUP formed following last week's general election could, surprisingly, be a good thing for the British economy.

That is according to Samuel Tombs of Pantheon Macroeconomics, one of the few analysts to correctly predict Theresa May would not win a big victory in the snap vote.

"The government's enfeebled state brings with it some major positives for the U.K.'s economic outlook," Tombs wrote in a note sent to clients late on Sunday evening.

Tombs' basic argument is that the government is likely to move away from the austerity-driven economic agenda that has dominated the British political landscape since the tail end of the financial crisis, and could move toward a more expansionary fiscal policy, spending on infrastructure projects and other investments.

"The Government's weakened state increases the likelihood that the current plans for a further severe fiscal tightening will slip. DUP politicians and Tories with slender majorities will demand "pork" for their constituencies in order for propping up the government," he writes.

"The rise in support for Labour also suggests that the public has become less convinced that austerity must continue. The Tories, therefore, likely will adjust their stance."

Doing so could stimulate growth and could be achieved by the Tories without breaking their self-enforced fiscal rules.

"The Tories could borrow £25B more than planned in 2020-21 and still adhere to their fiscal rule. Borrowing would total £250B over the next five years—£93B more than set out in March—if the Chancellor reduces it at a constant pace between 2017-18 and 2020-21," he says.

On top of that, the increased prospect of a softer Brexit deal, with the UK possibly staying within the European Economic Area, would also be a big positive for the economy.

Led by strategist John Wraith, UBS' analysts argued that the uncertainty surrounding UK politics — namely a weak government backed by the DUP and the possibility of another election — will lower the confidence of investors, particularly those investing from overseas, possibly adding to the economy's woes.

Weakening confidence in the economy could further lower GDP growth in the coming months, the investment bank says.

"We think this result intensifies the downside risks to the near-term economic outlook. Such significant political uncertainty will further dampen sentiment and confidence," Wraith's team writes.